Deferred rent is the balance sheet account that was used under ASC 840 to enable straight-line rent expense. Basically, when cash paid for rent did not equal the average or straight-line rent required by ASC 840, the temporary difference was held on the balance sheet in the deferred rent account. While the account is no longer needed under ASC 842, the concept remains in place.
FASB retained the concept of straight-line rent expense for operating leases, which is the major difference between ASC 842 and the IASB’s version of the leasing standard, IFRS 16. The mechanics that FASB prescribed in ASC 842 are much more complicated than ASC 840. However, the net balance sheet and rent expense impact of leasing remain largely the same. Now, instead of deferred rent, we have right of use (ROU) asset and lease liability accounts, and the net activity in these two accounts will be the same as deferred rent under ASC 840 for the same lease if all variables remain constant. The complexity of moving from a relatively simple process of straight-line under ASC 840 to the more complicated process involving multiple accounts and net present value (NPV) calculations under ASC 842 has motivated most companies to consider a lease accounting software solution.
The lease liability of any lease set up under ASC 842 is based on the NPV of future payments. The ROU asset is initially based on that same value, but adjustments are sometimes required. Upon transition to ASC 842 there is generally a deferred rent balance on the books already for ASC 840. Adjusting the opening ROU asset by that amount is actually the only way to ensure the straight-line or level lease cost remains unchanged when transitioning from ASC 840 to ASC 842. Otherwise, companies have to go back to lease inception and re-abstract years of data just to achieve compliance with the new standard. This is unnecessary and can represent a massive drain on time and resources allocated to the compliance effort. True enterprise class lease accounting solutions offer an automated process, which allows for seamless transition from ASC 840 to ASC 842 guidelines, without the requirement to re-abstract old data.
When evaluating lease accounting solutions, keep in mind that the deferred rent balance from ASC 840 will need to be transitioned. Make sure ROU asset adjustment functionality is in place and easy to use. And know that many similar issues like this will come up when transitioning to new lease accounting guidelines. However, companies that take a proven path with a true enterprise class lease accounting solution have experience and expertise on their side. CoStar has helped hundreds of clients implement a solution to manage lease administration and lease accounting for equipment and real estate.